Bank capital, economy, debt, and the true meaning of Jubilee

On the topic of Bank capital this chart embedded in Greenspans article shows just how much banks business model has evolved. In economic terms this is the corollary to extreme business and personal debt.

In the years following 1840 when bank capital was approaching 60%, as banks made loans, the borrower bought things that resulted in bank deposits which can then be lent again, and again. The velocity of capital as it is know increased dramatically until 1940 and largely remained there – till now. As banks re-capitalise the preachings of government to lend more is the ultimate paradox.

On the other hand this piece from Niall Ferguson takes the opposite view that we may have reached a point with consumer debt that is irreversible, requiring a Jubilee (debt forgiveness). Niall writes:

Excessive debt is the key to this crisis; it is the reason we are confronting no ordinary recession, curable by a simple downward adjustment of interest rates. It is the reason we still have to fear, if not a second Great Depression, then very likely the biggest recession since the 1930s. We are living through the painful end of an age of leverage which saw total private and public debt in the US rise from about 155 per cent of gross domestic product in the early 1980s to something like 356 per cent by the middle of this year.

…

With estimates of total losses on risky assets now ranging from $2,800bn (£1,850bn, €1,960bn) to $6,000bn, a chain reaction is under way that will leave no sector of the world economy untouched. The American economy is contracting at an annualised rate of 5 per cent. Commercial property is following the residential market into freefall. The Standard & Poor’s 500 index is down 43 per cent since its peak in October last year. The market for credit default swaps is pointing to a surge in defaults on corporate bonds. The automotive industry is already (against the will of Congress and the original intention of the Treasury) on life support. The US is at the centre of the crisis but Europe and Japan may suffer even larger aftershocks. As for the much feted emerging market “Brics” – Brazil, Russia, India and China – their stock markets have been dropping like, well, bricks.

He develops the case for debt forgiveness as the only way to break the logjam. He mentions this option:

…. as recently suggested by Harvard’s Martin Feldstein. (In his scheme, the government would offer any homeowner with a mortgage the option to replace 20 per cent of the mortgage with a low-interest loan from the government, subject to a maximum of $80,000. The annual interest rate could be as low as 2 per cent and the loan would be amortised over 30 years.

The Greenspan article is generally positive while the Ferguson one is more pragmatic. More and more it is clear that the state of the economy, GDP and the matters of recession/ depression/ growth/ inflation/ deflation lie in Government hands.

Relevance to Bankwatch:

Despite all this, Banks have an opportunity to get creative and innovative in how they participate in the development of the new economy. They must do more than merely become financial conduits funnelling government policy to the proletariat. The opportunity lies in development of new models of service that are more reflective of the new economy as we dither between welfare state (old and unaffordable) and market state. (my latest study)